Do countries deserve this? asks Neuberger Berman of the ongoing European crisis

By: Matthew Rubin | 05 Dec 2011

Neuberger Berman considers the “murky relationship between individual country fundamentals and perceived crisis—and whether even ‘core’ nations could be vulnerable.”

Do Italy and Spain ‘Deserve’ This?

Europe’s debt crisis contagion has engulfed economic stalwarts Italy and Spain.But do these countries “deserve” a debt crisis? From a technical point of view,things like the debt- and deficit-to-GDP, growth rates and unemployment trendsshould separate those who can or can’t pay their obligations.

However, depending on the country, the mix of fiscal and economic numbers may not paint a clear picture. For example, both the U.S. and Italy have debt-to-GDP ratios of around 120%, but the U.S. has a projected 2012 growth rate of nearly 2% while Italy is forecasted to crawl along at 0.3%. In Spain, indebtedness is much lower, with outstanding debt of only about 60% of GDP; however, the country posted 0% growth in the third quarter and is grappling with particularly high unemployment. Unlike Greece, where the numbers clearly pointed to insolvency, the case in Spain and Italy is much more ambiguous.

When comparing Italy and Spain, it should be noted that they face very differentsets of issues.

Spain continues to stagger in the aftermath of a building bust that decimated its construction sector and raised unemployment to more than 20%, abetted by a cumbersome framework of labor laws, work contracts and unemployment benefits. Italy suffers from a debt burden roughly three times that of Spain, with close to $2.5 trillion in bond obligations outstanding compared to Spain’s $850 billion.

While Spain has the favorable context of a unified ruling party across both federal and regional governments, Italy faces a more fractious political setting with supporters of ousted Prime Minister Berlusconi retaining control in the upper-house Senate, potentially setting the stage for stalemates of the sort experienced by the US Congress.

Despite these serious concerns, these two countries are still solvent and there isreason for confidence-both have new leaders and understand the urgent need for serious reform. Spain’s ruling People’s Party, led by Mariano Rajoy, is moving forward on such crucial but painful changes as labor law reforms.

In Italy, the new government is dominated by academics and highly experiencedpolicy and commercial heavyweights, with former European commissioner Mario Monti now at the helm. Both countries still have investment-grade credit ratings, which they could arguably sustain with the right political choices.